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Dr Reddy's Laboratories (DRRD)
Pharmaceuticals
Rs100 EPS in sight, but 17% of it is not sustainable. We believe DRL will not meet
its FY2013E sales guidance but will achieve ROCE guidance of 25%. We highlight that
the model of balanced growth is missing as 42% of its sales come from slow-moving
segments (PSAI, India, Germany), which are likely to grow at 6-8% over FY2012-13E.
With growth coming largely from the US, we believe the stock is highly susceptible to
earnings shocks on account of volatility in earnings (17% of FY2013E EPS is not
sustainable). Also, in the US, earnings are exposed to regulatory risks, delays in approval
and scale-up in market share. We maintain our REDUCE rating, PT at Rs1,660—(1) 20X
base business EPS of Rs82 (2) Rs16 from limited competition US launches.
Limited visibility of US$2.6-2.7 bn sales guidance; 17% of FY2013E EPS not sustainable
We see limited visibility of DRL’s FY2013E sales guidance and factor in sales of US$2.4 bn in
FY2013E (see Exhibit 3). However, we expect DRL to achieve its FY2013E ROCE guidance of 25%.
We expect capital employed of Rs84.6 bn in FY2013E versus Rs69.5 bn in FY2011 (CAGR of
around 10%) and estimate ROCE at 25% in FY2013E, implying EBIT of Rs21 bn, base business
EBIT margin of 17%. This implies an EPS of Rs98.5, however, we estimate 17% of FY2013E EPS is
not sustainable (see Exhibit 1).
Balanced growth model missing in DRL
We believe the model of balanced growth is missing in DRL as (1) 28% of DRL’s sales still come
from slow-moving PSAI segment and Germany, which has historically grown at a single-digit rate
since FY2009 (sales from Germany has declined). The PSAI segment saw poor gross margin of 26-
30% in FY2009-11, (down from 34% in FY2008), which is half of the levels seen in the generics
segment (60-65%). Coupled with a poor growth rate in India (14% of sales), we expect 42% of
DRL’s sales to grow between 6-8% over FY2012-13E in light of the FDA ban on the Mexico facility.
Higher sales and marketing expenses likely to keep base business margin subdued
Despite a significant pick-up in US sales in the past four quarters, EBITDA margin expansion has
not been commensurate for DRL (see Exhibit 5) due to higher SG&A cost led by an increase in MRs
in branded generics markets of India/Russia (30% of sales). DRL has doubled its sales force in India
and increased it by over 50% in Russia in FY2010-11 (see Exhibit 7) while increasing marketing
and promotional spend in India. We expect the base-business margin, adjusted for exclusive
launches in US, to remain under pressure and accordingly factor 21.5% EBITDA margin in
FY2012E versus 22% in FY2011/1QFY12. We estimate base business profit declining marginally in
FY2012E and factor in 24-28% growth over FY2013-14E (Exhibit 1). We estimate 2QFY12E PAT to
remain flat yoy at Rs2.8 bn despite sales growth of 14% due to (1) higher SG&A spend leading to
EBITDA margin remaining flat yoy, (2) higher interest cost and (3) higher tax rate
US sales to double to US$825 mn in FY2013E, our assumptions are generous
As DRL’s growth is primarily led by one region— US (35% of its sales) we expect
slower offtake and delayed launches to pose the key risks to our estimates. We
believe this risk is pertinent as DRL has recorded poor market shares earlier in some
of its big-ticket low competition launches in FY2011 such as Lotrel —(4th to market)
and Tacrolimus (2nd to market). It currently faces significant scale up issues in
Arixtra and estimates reaching market share of 35% only by 1Q2012.
We factor in sales from all US launches on which we have visibility over FY2012-14E. We
expect US sales to touch US$825 mn in FY2013E, however, we estimate around US$160 mn
of it to be unsustainable. We factor US$160 mn sales in FY2013E from following FTF’s and
limited competition launches.
4 FTF’s (US$46 mn)- Ziprasidone, Avandia, Clopidogrel 300 mg, Clarinex D-12/D-24 will
contribute combined sales of US$46 mn in FY2013E
US$110 mn from limited competition launches—Lipitor, Clopidogrel 75 mg, which we
estimate will not repeat in FY2014E to the same extent due to additional competition
Lipitor (US$5 bn): We assume a May 2012E launch along with Teva, Mylan and
expect sales of US$50 mn in year 1 of launch (10% market share, 90% price
erosion). In year 2 (FY2014E), we expect sales likely to decline drastically due to
additional competition (see Exhibit 4)
Clopidogrel 75 mg (US$6 bn) : Even though DRL has not received tentative approval
for 75 mg (has received for 300 mg, for which it has FTF position) we factor in a May
2012E launch rendering this a limited competition opportunity in year 1 with
estimated sales of US$60 mn in FY2013E declining to US$6 mn in FY2014E (see
Exhibit 4)
US OTC sales: We expect a significant ramp up in OTC sales in US on account of new
launches such as Allegra D24 and Lansoprazole and factor in 10% base business growth.
We expect OTC sales to touch around US$200 mn in FY2014E, constituting 23% of total
US sales in FY2014E versus 14% in FY2011. We find management guidance of US OTC
sales to the tune of US$200 mn by FY2013E to be fairly aggressive.
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
Dr Reddy's Laboratories (DRRD)
Pharmaceuticals
Rs100 EPS in sight, but 17% of it is not sustainable. We believe DRL will not meet
its FY2013E sales guidance but will achieve ROCE guidance of 25%. We highlight that
the model of balanced growth is missing as 42% of its sales come from slow-moving
segments (PSAI, India, Germany), which are likely to grow at 6-8% over FY2012-13E.
With growth coming largely from the US, we believe the stock is highly susceptible to
earnings shocks on account of volatility in earnings (17% of FY2013E EPS is not
sustainable). Also, in the US, earnings are exposed to regulatory risks, delays in approval
and scale-up in market share. We maintain our REDUCE rating, PT at Rs1,660—(1) 20X
base business EPS of Rs82 (2) Rs16 from limited competition US launches.
Limited visibility of US$2.6-2.7 bn sales guidance; 17% of FY2013E EPS not sustainable
We see limited visibility of DRL’s FY2013E sales guidance and factor in sales of US$2.4 bn in
FY2013E (see Exhibit 3). However, we expect DRL to achieve its FY2013E ROCE guidance of 25%.
We expect capital employed of Rs84.6 bn in FY2013E versus Rs69.5 bn in FY2011 (CAGR of
around 10%) and estimate ROCE at 25% in FY2013E, implying EBIT of Rs21 bn, base business
EBIT margin of 17%. This implies an EPS of Rs98.5, however, we estimate 17% of FY2013E EPS is
not sustainable (see Exhibit 1).
Balanced growth model missing in DRL
We believe the model of balanced growth is missing in DRL as (1) 28% of DRL’s sales still come
from slow-moving PSAI segment and Germany, which has historically grown at a single-digit rate
since FY2009 (sales from Germany has declined). The PSAI segment saw poor gross margin of 26-
30% in FY2009-11, (down from 34% in FY2008), which is half of the levels seen in the generics
segment (60-65%). Coupled with a poor growth rate in India (14% of sales), we expect 42% of
DRL’s sales to grow between 6-8% over FY2012-13E in light of the FDA ban on the Mexico facility.
Higher sales and marketing expenses likely to keep base business margin subdued
Despite a significant pick-up in US sales in the past four quarters, EBITDA margin expansion has
not been commensurate for DRL (see Exhibit 5) due to higher SG&A cost led by an increase in MRs
in branded generics markets of India/Russia (30% of sales). DRL has doubled its sales force in India
and increased it by over 50% in Russia in FY2010-11 (see Exhibit 7) while increasing marketing
and promotional spend in India. We expect the base-business margin, adjusted for exclusive
launches in US, to remain under pressure and accordingly factor 21.5% EBITDA margin in
FY2012E versus 22% in FY2011/1QFY12. We estimate base business profit declining marginally in
FY2012E and factor in 24-28% growth over FY2013-14E (Exhibit 1). We estimate 2QFY12E PAT to
remain flat yoy at Rs2.8 bn despite sales growth of 14% due to (1) higher SG&A spend leading to
EBITDA margin remaining flat yoy, (2) higher interest cost and (3) higher tax rate
US sales to double to US$825 mn in FY2013E, our assumptions are generous
As DRL’s growth is primarily led by one region— US (35% of its sales) we expect
slower offtake and delayed launches to pose the key risks to our estimates. We
believe this risk is pertinent as DRL has recorded poor market shares earlier in some
of its big-ticket low competition launches in FY2011 such as Lotrel —(4th to market)
and Tacrolimus (2nd to market). It currently faces significant scale up issues in
Arixtra and estimates reaching market share of 35% only by 1Q2012.
We factor in sales from all US launches on which we have visibility over FY2012-14E. We
expect US sales to touch US$825 mn in FY2013E, however, we estimate around US$160 mn
of it to be unsustainable. We factor US$160 mn sales in FY2013E from following FTF’s and
limited competition launches.
4 FTF’s (US$46 mn)- Ziprasidone, Avandia, Clopidogrel 300 mg, Clarinex D-12/D-24 will
contribute combined sales of US$46 mn in FY2013E
US$110 mn from limited competition launches—Lipitor, Clopidogrel 75 mg, which we
estimate will not repeat in FY2014E to the same extent due to additional competition
Lipitor (US$5 bn): We assume a May 2012E launch along with Teva, Mylan and
expect sales of US$50 mn in year 1 of launch (10% market share, 90% price
erosion). In year 2 (FY2014E), we expect sales likely to decline drastically due to
additional competition (see Exhibit 4)
Clopidogrel 75 mg (US$6 bn) : Even though DRL has not received tentative approval
for 75 mg (has received for 300 mg, for which it has FTF position) we factor in a May
2012E launch rendering this a limited competition opportunity in year 1 with
estimated sales of US$60 mn in FY2013E declining to US$6 mn in FY2014E (see
Exhibit 4)
US OTC sales: We expect a significant ramp up in OTC sales in US on account of new
launches such as Allegra D24 and Lansoprazole and factor in 10% base business growth.
We expect OTC sales to touch around US$200 mn in FY2014E, constituting 23% of total
US sales in FY2014E versus 14% in FY2011. We find management guidance of US OTC
sales to the tune of US$200 mn by FY2013E to be fairly aggressive.
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